There is no shortage of hopeful traders who have been frustrated waiting for the Twitter Inc (NYSE:TWTR) buyout headline. Some bought TWTR stock outright while others bought calls … and if they didn’t time their trades perfectly, they suffered big losses.
I have been using Twitter options to generate free profits out of thin air, regardless of headlines. The idea is to sell puts or put spreads below levels that are proven support, and then let time do the work.
Twitter’s fundamentals are at best questionable but mostly because of current management. They have proven time and again that they are serial disappointers. In spite of that, TWTR stock recently rallied 28% on earnings, making current levels a dangerous entry point.
I don’t want to risk $18.4 at face value and without any room for error.
Click to Enlarge I find it interesting that the recent run topped out just below $19 per share. This was almost exactly from where Twitter stock collapsed on its prior earnings report; $19 also had been pivotal since its fall from grace in 2015.
Traders on both sides of the bull and bear arguments usually don’t let go of levels that are of this significance without a fight. I don’t think recent headlines were game-changing to the point that TWTR is likely to rally far past $19.
I do have to note that analyst expectations are overly humble, which could spur an upgrade cycle and that would not play into this set up.
A sharp rally alone is not reason enough to make me sell the stock short. But it does give me reason to cautiously short it using options especially with little out-of-pocket expense. Hold your hate mail — this isn’t me saying that Twitter’s prospects are terrible. In fact, I want to use perceived value in Twitter to finance my trade.
TWTR Stock Trade
The Bet: Buy the Jun $18 put for 55 cents per contract, which would be your maximum risk. We need the price to fall through the put strike to profit, and the faster, the better.
As mentioned before, we won’t be using any out-of-pocket funds for this bet, even though we already should have profits in hand from prior Twitter trades.
The Bank (Optional): Sell the Dec $14 put and collect 55 cents per contract, thereby completely rendering my entry into this bearish idea to zero out-of-pocket cost.
Ideally, I want TWTR stock to fall well below my $18 put before mid-June, but then recover and hold through December. The advantage of this pair trade is that I don’t even need Twitter shares to rally to profit. As long as price stays above $14, any premium I recover from selling back the June put is pure profit, even if it’s less than what I paid to buy the put.
I could do this pair trade using spreads instead of naked options to limit the maximum risk exposure, especially on the sold put side.
E-mail sellspreads@gmail.com with questions or join me to learn more about options in a personal 1on1 webinar here. Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. You can follow him on Twitter at @racernic and stocktwits at @racernic.
